Investing in Gold and Miners for Value Investors

I have been dipping my toe into gold stocks having owned Yukon Nevada and Energold (EGDFF) over the last year or so. I am thinking along your lines that I need to diversify into ten or so names with a mix of producing and near producing. I wondered if you knew the current top 10 GSA recommendations and if there were any other stocks at the exploration or near producing end that you thought were worth further investigation. I see Weiss has a large position in Seabridge, but I don’t really know how to analyze the opportunity?

My reply: Like this gentleman, http://truecontrarian-sjk.blogspot.com/, I am drawn to cheap assets. Precious metals miners (GDX and GDXJ) certainly qualify. The more I study mining, the more I dislike the business. These businesses are highly capital intensive, they are price takers and subject to many operational risks. Right off the bat, you HAVE to buy these assets cheaply to reduce your risks and you must diversify (8 to 12) names to take advantage of the insurance concept of GENERAL cheapness. One of your companies could get swamped but overall your other companies will flourish. I bought Energold last week once it went 15% below $2.00 per share because then you were buying the company for less than its working capital of which 40% of that was cash. I don’t buy the thesis that Energold has a competitive advantage. I am buying cheap assets.

The mining industry has four tiers: Senior Producers like Yumana, Newmont, Agnico-Eagle, Goldcorp, Barrick. Then you have mid Tier Producers like EGO, GORO, and NGD, then you have developmental companies like Seabridge, Pretium and others which may be years until production. Finally, the lottery tickets like explorers found in GLDX.

If you want exposure to bullion, I recommend CEF at a 2% discount or more. Avoid GDXJ because of some of the low quality names in that index. You might want TOCQUEVILLE. John Hathaway, the fund’s manager, has a long experience and good reputation. Read his letters for several years. See his fund below:

Above, is GROW (US Global Investors) this may be a cheap way to participate in the rebound in precious metals and commodities. The current price seems to be at a discount to its cash and AUM of $1.3 billion using 2% of AUM (pay less than $3 per share).

Another way to reduce your risk through diversification and avoiding operational mining risk is to look at the royalty/streamer companies like SLW, RGLD, SAND, FNV. Though they are not as statistically cheap, they have huge free cash flows. I think those companies will be needed more and more to finance future exploration and development. Put your hat in the ring with experts. Now is a better time to be buying than in the past five years based on valuations.

The safer strategy would be to go with Tocqueville because you get broad diversification with a manager who knows his companies. The downside is the annual fee. However, You can make decent returns when this sector rebounds and be ready to sell when his fund become popular again. Look at Fairholme last year with its heavy investments in financials–a formerly out of favor sector:

The downside in gold and gold stocksmay not be over. My thinking is that the current events are VERY bullish for gold long-term but bearish short-term. Japan’s insane policy of currency debasement is forcing down interest rates (for now) and leading to a reach for yield (return) so gold might be under pressure as investors leave gold to pursue stocks. Eventually, Japan’s currency will implode, leading to massive unintended consequences and a rush back to safety. But, gold miners don’t necessarily need gold to go up, they need their inputs to decline more than gold, so their margins widen/stabilize.